Kodak warned that earnings would come in below estimates for the quarter ending on Friday, which sent the shares crashing. In two days, the company lost almost 28% of its market cap. The market seems to be wildly overreacting, but that may be partly the result of the way the company handled the announcement.
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Kodak closed at $59 on Monday. On Tuesday the company announced that they were having a bad month (they were talking about this month, September) and that Kodak would not be meeting analysts expectations for their third quarter by about 15%. The stock dropped 24% on Tuesday and another 4% yesterday. In the process it wrecked the Foolish Four Portfolio's performance for the year. We were slightly ahead of the market and now we are trailing rather badly.
While I am troubled by Kodak's earnings drop, I have a hard time seeing a loss of almost 28% of the company's total market cap over such a shortfall as anything but a wild overreaction. Of course Kodak wasn't in a strong position to begin with. The once mighty giant of photography has been locked in a battle with Fuji over film pricing for several years and struggling to be seen as a digital imaging company, not just a seller and processor of wet film.
But this isn't some dot-com that was bid up beyond any reasonable expectation of ever having earnings to justify its market cap. This is a company with solid and growing earnings. Even if both the third and fourth quarters of 2000 were to miss estimates by 20%, Kodak would still show 15% growth over last year. For that, the company loses over a quarter of its market cap?
Of course, stocks are not valued based on what they are earning now, but on what the market expects them to earn in the future. The market is saying that this earnings shortfall is not just temporary, not a glitch in an otherwise fine earnings stream, but a harbinger of things to come as Kodak loses its film market to Fuji and fails to make the transition to a digital imaging company.
If you say so. The comments by Kodak officials do lead one to believe that the company is in a shambles. While citing weak Asian and European currencies against the dollar and a drop in film orders from retailers as two of the main contributors to the revenue shortfall, the company also managed to convey the impression that they had been taken by surprise and were still trying to figure out just what hit them.
I'm all for disclosure and applaud the company's efforts to release their news as soon as possible, but "more haste, less speed," guys. The befuddled tone of some of the remarks quoted in the wire services must have contributed to the sell-off. For example, Reuters quotes Chief Financial Officer Bob Brust as saying, "We're in a big derailment here and we're trying to find out what it was."
Considering that the month in question isn't even over yet, that comment is probably justified and even reasonable at this point in time, but it just doesn't sound good.
I'm not really blaming Kodak. One good thing about this situation is that you didn't see the three-day price drop that so often precedes earnings "surprises." It's shocking how many times I have seen a company's price start to drop two or three days before a big earnings warning, or vice versa when the earnings surprise is on the upside. This time the surprise really seemed to take everyone by surprise.
Even so, the timing of the announcement allowed institutional investors time to dump their shares before the general public read the news. The first story went out around 7 a.m. ET and the stock immediately dropped $8 in pre-open trading among institutional investors. On the one hand, you have to give Kodak credit for not letting the story get out before the announcement. On the other, they certainly timed it so that institutional investors had a two-hour lead over the little guys.
On the other hand (I always seem to need three hands for these discussions) I hope that the little guys, those of us who don't have to worry about what their clients will say, would stop and think about this situation a bit more rationally. Kodak may not be reshaping the world like Amazon.com <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMZN)") else Response.Write("(Nasdaq: AMZN)") end if %> (which has a slightly higher market cap than Kodak, and is losing almost as much money as Kodak is making this year), but it is earning money -- tons of it -- and it's earning more money than it earned last year, or the year before that.
Although the market seems to have lost sight of this recently, earnings are what determine a stock's fundamental worth over time. Earnings are the only thing that can put money in an investor's pocket, either in the form of dividends (Kodak's dividend yield has climbed to almost 4% for anyone who buys at this price) or stock price appreciation. That's right. Stocks can go up in anticipation of earnings that may be way down the road, but they can't go up forever without money coming into the company to support and fuel continued growth.
Kodak has low debt, good margins, and by other fundamental measures it is a stable, healthy company. Not a world shaker any more perhaps, although at one time it was as world-shaking and high tech as you could ask for. But now Kodak is the kind of company Amazon shareholders hope and expect Amazon to develop into someday. Without the unpleasant surprises, of course.
For those of us who own Kodak (I'm right in there, too, remember), this kind of a drop is no fun at all. But we have to remember that investing is not a science and that every successful, long-term investor has had stocks drop out from under him. Sometimes they recover, sometimes not, but in this case I expect that Kodak will weather the storm even if it doesn't bounce back right away. Investors are going to be looking at it closely for the next several quarters to see if this was a glitch or a harbinger of worse to come.
Fool on and prosper!